This is a topic that I write about quite often both here on our blog and on the BiggerPockets.com blog as well as the forums. It is so important for passive investors, especially those that are buying Turnkey real estate, to understand how important the city and partner company are to your success.
Too many horror stories about investing begin with buying what appear to be very good deals on paper only to find out the property and team cannot even come close to performing the way an investor expects. It is the difference between paper profits and real-world profits. When investors find what they perceive as great deals before having a good understanding of the market and a team in place, they can often find themselves having more headaches than the investment is worth.I have been writing and talking about the process investors should go through when buying out of state properties for years. Even if you are buying across the state in another city, you still need to follow specific steps if you want to be successful. I am passionate about helping other investors avoid the most common mistakes that cost us money.
New investors and experienced investors alike fall into the same traps when buying real estate that is not local. All too often investors choose to invest in another market for personal and absolutely the wrong reasons!
A few reasons NOT to choose a rental market:
- “I grew up there as a kid.”
- “My wife’s brother lives there.”
- "I read online that the houses there are really cheap!"
- "I can buy 5 houses for $100,000 and make $10,000 in income a month!"
- "The vacation house we stayed at last summer was really cute. Let's buy there."
- “My boss has bought properties there, and he drives a BMW so it must be good.”
- “I love Memphis. I go there every year for Elvis death week… it’s awesome!”
Obviously, these are the most outrageous reasons, yet we all know they are true. These are often variations of the exact reasons investors choose what they think is a great investment market. These are not good reasons. Let me tell you how to get started!
Choosing a Great Market for Real Estate Investing
When choosing a great market, there’s a lot more that goes into it than just finding cheap houses. That’s going to be a theme throughout this article. Cheap houses don’t make a great market. In fact, I often tell investors, “Forget about the house.”
Don’t even look at the house yet. Make sure that you know the market first. The condition of the market you are investigating is going to dictate whether you actually decide to invest or not. What good is a “cheap house” if the market is no good?
So when investigating a market, I encourage investors to dig into the details of the area. This is a place where investors can get bogged down in details that can leave them unable to make a decision because the research never ends.
I am not advocating that! I want to make sure you hear me out. This research is one evening on a computer at most.
It is not that difficult to research an area. You will always be able to check out your conclusions for yourself, but before you go off flying all over the country, do a little research yourself.
Long-Term Market Outlook
I tell investors to start with a long-term outlook in a market. Take a look at population. Is it going up? Is it going down? Make sure you look at the MSA (Metro Statistical Area) as well and not just the city. We are so spread out with urban sprawl today that you want to know what is going on with all the surrounding bedroom communities too.
I think the importance of a growing area cannot be overstated. It may be small or may be big, but I like areas that are growing. I want to own investment properties as a generational wealth building tool so these properties are for my children. I want them to be located in a vibrant area that is growing.
Related Article: Side-by-side Review of Three Great Rental Markets
Key Industries Driving Employment
I always want an investor to look at key industries in an area as well and not just the employers. Employers are important, but what are the key industries that drive that market from an economic standpoint? What’s happening with jobs? Not the unemployment rate, but are there net positive jobs being created in a market each year?
Every city is going to have ups and downs, and every city loses companies to closure, moving and downsizing. That is a fact of the current business climate. What I want to know is, are there businesses moving in? Are there major companies, major employers, different areas of development and different industries that are showing interest in a city?
Those are key questions that tell me as an investor whether or not the city has good long-term viability. I want to know not only what is happening today, but what can I expect from the future. You cannot get that information from an unemployment rate. You have to get into it and read about it.
This list could actually go on and on and if you want more places to search, send me an email… I have become a master at it!
Local Bloggers Give You the Nitty Gritty
I also suggest that investors search out and read up on local city bloggers. You will find all types from business bloggers to recreational enthusiasts, to local moms who like to share about their city. Either way, there are a ton of blogs out there for every city, and this is a great place to get an inside feel for the city.
I encourage investors to find a couple of blogs and make you sure read them. The point is that you need to skim a little. Do not spend time loading up on every detail that a blogger writes, but you want to get a feel for what is happening in a city. The Chamber of Commerce is always going to give you the rosiest picture and best news but that is ok.
Just balance it out with a real world feel from the blogs. This will really help you determine if this is a place you want to be investing your money for the long-term.
Always remember that this step is to get a feel for the city. You may like it, you may not. If you feel no connection at all and do not see the long-term opportunity, strike it from your list. If you love it or even have good feelings, but are not sure, that is a city to mark down to research further.
At this point, you want to dig into some of the finer details, like what’s going on with housing pricing overall. Not just the investment prices, but overall. Are houses moving quickly through the MLS? How long are they sitting on the market? Are sellers being forced to take discount from list price on final contract price?
These simple questions allow you to look inside a market and get an idea of what is happening with housing. How about housing starts? Are they up or are they down? You might even type a Google query of “How many sales are to investors in XYZ?”
You also want to investigate the pricing history for that market by looking at certain factors, such as what the highest price in that market was and what the prices are today. You’re looking for a large variance. You’re looking for a very high peak, compared to a low price today.
You also want to see, as far as a percentage of sales in a market go, how many are foreclosure sales. The presence of foreclosures does not necessarily mean it will be a good long-term investing market. It is simply an indication of available properties where an investor may be able to find properties at discount.
Related Article: Part Time Investors, Build A Plan That Works For you!
What is the Cost of Living for a Market?
The last piece that I really look at in a market — as far as the economics are concerned — is what does it cost to live in that market? I’m always looking for a market that has a relatively low cost of living number.
Specifically, I look for markets where the average cost of housing is not more than three times the average income of someone who lives there. That’s going to be a market where the house is still affordable. As an investor, you can still get a house bought, rent it, and actually make a return on it even if you have to use a property management company.
There are a lot of numbers that go into making a great market, and none of those numbers are cheap houses. Unfortunately, cheap is a state of mind and, in my opinion, it has hurt more real estate investors than any other single factor.
For me, the house is always the last thing I look at and never before I know the long-term viability of a market. Too many investors today are buying investment properties in out-of-area markets because the property was cheap. When I get calls from investors asking for help with these cheap houses, I always inquire as to why they bought the house and the answer is always because it was cheap. I ask them, “Cheap compared to what?”
Cheap compared to where you live does not mean it is a good deal. Cheap for the city you are buying in does not mean it is a good deal. There are so many more questions you have to have answered before you can buy a property. That is why I tell investors to forget about the house!
Long before you decided you’re going to invest somewhere, make sure you know what’s happening in that city itself.